The United States took a step closer to losing its coveted triple-A credit rating over the weekend as a political impasse in Washington reduced hopes of an agreement to meaningfully cut the nation's budget deficit.
Although analysts still expect a last-minute deal to raise the U.S. debt ceiling and avoid a default next week, it seems unlikely that Democrats and Republicans will agree before the next election in November 2012 how to find $4 trillion through government spending cuts and revenue increases.
Prospects of a budget breakthrough faded as lawmakers missed a self-imposed deadline to produce a deal by the time Asian markets opened for the new week. They still plan to outline proposals on Monday, but both sides appear further apart than ever.
Moody's, Standard & Poor's and Fitch have said they will downgrade the U.S. credit rating if failure to raise the nation's $14.3 trillion debt ceiling leaves the Treasury without cash to service its debt obligations in August.
But, at this point, raising the ceiling is not enough to safeguard the triple-A rating.
The ratings agencies have said the top-notch U.S. rating will only be safe if they see a credible plan from Congress and President Barack Obama to address the country's growing debt burden.
S&P would likely be the first to remove the triple-A status — a move that could raise borrowing costs for Americans for generations to come, with Moody's and Fitch expected to follow, though perhaps not immediately.
The ratings agencies have suggested that deficit-reduction measures of some $4 trillion over 10 years could allow the U.S. to retain its current rating, though that also depends on a healthy pace of economic growth.
In another day of tense negotiations in Washington on Sunday, plans to cut hundreds of billions of dollars from the national debt have been proposed and then quickly discarded as the debate degenerated into an ideological battle.
Republicans, driven by the fiscally conservative Tea Party movement that helped them win the House of Representatives last November, strongly oppose tax increases, while Democrats dislike proposed cuts to popular social programs.
S&P HAS FINGER ON THE TRIGGER
In mid-July S&P threatened to cut U.S. ratings in the following three months if a meaningful deficit cutting plan wasn't agreed.
After issuing that downgrade warning, John Chambers, chairman of S&P's sovereign ratings committee, told Reuters "this is the time" for such a deficit-reduction agreement.
"If you get a small agreement, that will lead to a downgrade," he said in the July 14 interview.
Initially, the agencies seemed willing to wait longer for a deficit reduction plan. But eventually they came to the conclusion that, if a deal is not reached now, it will become even more difficult next year, when presidential elections will further increase political divisions.
"When this started, the focus was the debt ceiling. Now the issue is that the ratings agencies have said they need to have a credible deficit-reduction program in place for them to take away the threat of a downgrade," said Steven Englander, head of G10 FX Strategy at Citigroup in New York.
Moody's has also said it may revise the outlook on the U.S. rating to negative if lawmakers raise the debt ceiling but fail to substantially cut the deficit. A negative outlook is a sign the rating may be downgraded in 12 to 18 months.
Fitch said it will decide on the outlook for the U.S. rating as soon as lawmakers reach a budget deal in Washington.
David Riley, Fitch's main analyst for the United States, said the decision will take into account the headline figure for deficit reduction but also the credibility of the plan.